Long-term investors may be ready to start buying equities, but what will they be buying?
More of the same, according to Citigroup, which released its latest European forecast monitor on Monday.
The note recommends investors (continue to) buy stocks on medium-term (6-month) earnings momentum rather than value:
Short term earnings momentum strategies are struggling. Medium term earnings momentum strategies are currently more successful. Our simple and disciplined earnings momentum strategy in Figure 6 has performed well this year despite macro and financial market dislocation. Although this strategy has got a good track record over the past 10-15 years, profits turn to losses at major cyclical turning points. For example, this strategy would have underperformed in the aftermath of the LTCM crisis in 1998 and in the early recovery of 2003-04.
In short, share prices tend to move ahead of a company’s earnings cycle to discount both the downturn and the subsequent recovery.
So is now the time to move from backing an earnings momentum strategy to a contrarian strategy? We think it is still too soon to be making that call. Our economists expect that it will be some time before we see a meaningful recovery in Europe and we are still only around half way through the average downgrade cycle. Other factors such as inflation, interest rates and macro lead indicators all suggest it is too soon. We therefore stick with earnings momentum. We would for now continue to avoid short term (1m earnings momentum strategies) and stick with our 3m or 6m strategies.
So, Morgan Stanley left us waiting in July and it seems that, despite August’s suckers’ rally, we have a bit more waiting to do. So far, so Draaisma. Where the MS analyst said staglation could persist for a few more months however, followed by a bout of disinflation, allowing prices to ease, there’s no word from Citigroup on when investors might expect a sector rotation.
Instead the bank recommends sticking with commodities (“These are the stocks that have suffered the pain recently but stand to gain more”) and steering clear of recently-rallied companies with the weakest balance sheets. Recommendations reprinted below:
Related links:
Return of the short financials/long commodities punt? – FT Alphaville